How should Congolese authorities manage exchange rates and exchange rate regimes in the era of globalization?

Over the past two and a half decades, many developing countries which were in the Structural Adjustment Program (SAP) have been encouraged by the International Monetary Fund (IMF) and World Bank to adopt floating exchange-rate regimes. The Democratic Republic of Congo (DRC) also was subjected to that reform and changed its pegged exchange rate into independent floating in year 2000. However, in 1980-85 and 1990-95, the DRC adopted an interim regime. Monetary policy in DRC is highly depending on the government and has been hit by the budget performance. In many occasion, the government has resorted to printing more money. This speeds up inflation and increases exchange rates, devaluating the Congolese franc (CDF). In 2010 for example, the CDF depreciated at 26% in relation to the benchmark US dollar.

Using different scenarios and criterion, the conventional peg regime seems to be the best for the DRC which is desperately struggling to stabilize its economy. In fact, pegged exchange rate will allow DRC policy makers to import credibility and low inflation. Moreover, the DRC is a small, open economy. Its degree of openness was 65% in 2007 and 56% in 2008. In addition, it has limited exposure to international capital flows, an undeveloped financial sector, a tendency towards expansionary fiscal monetary policies and inelasticities in tradable markets. Furthermore, DRC imports are determined by the availability of foreign exchange (determined by aid and exports), with the exchange rate playing only a minor role.

The DRC doesn’t have enough foreign reserve that can help him to survive to huge attacks or shocks. It can neither stop crises in the border. A flexible exchange rate would adjust to absorb the change in world price and keep the domestic price as stable as possible, if ever we are enforced to pay high energy prices for imported goods due to crisis. In the case of fixed exchange rate, adjustment will be made inside the economy and the labour market. Of course the rise in world price will be transmitted to domestic price and decrease profit in the firm but adjustment can be made in the labour market, not in terms of wage but in term of employment. Therefore, the economy can take shocks.

The only criterion that the DRC couldn’t satisfy in was the inflation rate. The price increased by 18% in 2008 and 46% in 2009. With this big gap in inflation between DRC and some trade patterns like EU and China, the PPP exchange rate will move faster and therefore, the market real exchange rate will follow them. So, the market exchange rate should be flexible. In this context, because inflation will cause our nominal exchange rate to depreciate in order to keep the relative competitiveness of our exports (the real exchange rate) about the same. If we have fixed exchange regime, inflation in DRC makes our exports less competitive on international markets. Nominal appreciation of the CDF, by itself, also makes DRC exports less competitive, so nominal appreciation plus inflation makes them even less competitive. However, there are some evidences that support that fixed exchange rate brings advantages in terms of lower inflation rates and higher growth rates particularly to low-income countries.

There is a tendency to suggest flexible exchange regime with monetary policies rules such as inflation targeting for developing countries. As far as DRC is concerned, the politics prevents a country from managing its monetary policy soundly. The central bank is legislatively independent but not in reality. Therefore, efforts in targeting inflation have not been successful because inflation is mostly coming from excessive money supply (printed money). When inflation is generated by other cause, the central bank fails in diagnostics and choice of instruments for policy response. In that case, adopting a hard peg solves part of the political problem, but leaves the country potentially exposed to financial or fiscal crises. Finally, the presence of dollar debt is often presented as an argument against flexibility.